A game of uncertainties

28 Mar 2018

MENA

Creating a Resilient Organisation

Sorana Parvulescu

Middle East Risk Watch - Issue 9 - March 2018
A game of uncertainties

The shocks and surprises of the past few years remind us that there is no room for complacency when it comes to geopolitical risks. Concerns about conflicts, markets and international relations and the incessant news feeds on the latest twists and turns of geopolitics continue to fuel uncertainty for businesses. There is no doubt by now that geopolitical uncertainty will define the remainder of this decade. It is how you mitigate this uncertainty that will set you apart.

This concern over geopolitical uncertainty and how it has been unsettling businesses across the world is not a foreign concept. It reflects a longer term trend over the past four-five years (think Obama’s second mandate, Xi coming to power, and the annexation of Crimea), during which the post-Cold War global world order has been slowly, but surely, sliding away from a unipolar, US-military- and Western-values-dominated architecture towards a multipolar competition with no obvious structure, which yields far more uncertain outcomes. At global level, the realisation of this transformation hit businesses in 2016 – the year of Brexit and Trump’s election. But in the Middle East, 2017 was when uncertainty started ringing the alarm bells of boards and excos with the sudden onset of the Qatar dispute in June, followed by a rapid succession of major domestic reform campaigns in Saudi Arabia and the escalation of bellicose rhetoric between Iran and Saudi Arabia (with strong US backing).

These are unlikely to remain isolated incidents. The elevated state of geopolitical uncertainty is here to stay. The big power competition is on and, as before, the Middle East will be one of the stages on which the game will be played.

What will hit us next?

While the global economy is set to reach its highest growth levels since the crisis of 2008, the global and regional political order are being reshaped by assertive national leaders and more transactional diplomacy.

Globally, this is manifesting itself most potently in the nuclear brinksmanship between the US and North Korea, the US threat of launching a trade war against China, and the multiple trade negotiations around NAFTA, Brexit, and the role of the WTO.

In the Middle East, this emerging new global order (or lack thereof) will increase the risk of miscalculation and the range of possible outcomes whether we’re looking at conflicts in Syria, Libya or Yemen, the fate of the nuclear deal with Iran, or the chances of implementing a two-state solution for Israel and Palestine.

Rhetoric casting the future of the Middle East as an existential battle between the two regional powers has soared – particularly on the Saudi side – over the past year. However, a direct military confrontation between Iran and Saudi Arabia remains unlikely. The scale of destructiveness – both financial and humanitarian – is exactly what makes a direct confrontation extremely unlikely. Iran and Saudi Arabia are both immersed in major domestic economic revival programmes. That work would collapse with the briefest of conflicts.

Iran and Saudi Arabia’s struggle for regional influence will however remain a primary driver of regional developments. Direct and indirect Iranian involvement in conflicts across the region is a significant driver of this concern for Gulf states, which have responded in kind to exert hard and soft power from Yemen to Lebanon. This rivalry will continue to play out indirectly, not face-to-face.

With that rivalry simmering in the background, Control Risks’ has identified five major drivers of geopolitical risk to organisations in the Middle East in 2018.

The future of the nuclear deal with Iran

The Joint Comprehensive Plan of Action (JCPOA) with Iran has come under pressure in the face of US President Trump’s anti-Iran policies. The deal will come under threat again and again in 2018 in the context of multiple regional rivalries, from Lebanon and Iraq to Syria and Yemen, where Iran is supporting groups that are at odds with US interests. The deal’s fate will depend on the commitment of European and Asian governments and their willingness to lobby the US government to defend the agreement. A complete breakdown of the deal remains unlikely, but would have serious consequences for the stability of the Middle East, which businesses need to consider in their scenario planning.

Rising tensions in the Levant

Political dynamics in the Levant region will continue to be a driver of instability for the wider region in 2018 while political and reputational risks will affect the largest business opportunities, including Lebanon’s gas development, and Iraq’s and Syria’s reconstruction. The slowing down of the war in Syria will test Israel’s tolerance of Hezbollah’s activities at its northern border and may trigger a pre-emptive strike against militant groups in southern Lebanon. The US’s recognition of Jerusalem as Israel’s capital also raises the prospect of political violence, though its significance is more symbolic than substantive. A two-state solution is nowhere in sight. Meanwhile, tensions between the US, Turkey, Iran and Gulf countries are also likely to persist in Syria in the absence of a viable option for talks. Businesses with interests across the region need to monitor these issues and understand whether and how any escalation could impact their reputation, assets, personnel and return on investment. Once they have established that, they need to consider what options for mitigation they have, from political risk insurance to robust security risk management.

Succession again and again…

The question of succession in Algeria, Iran and Oman will not go away until a leadership change occurs. If anything, the regional rivalry between Iran and Saudi Arabia, the changing role of the US, Russia and China, and these countries’ aggressive regulatory agendas increase the range of possible outcomes for succession processes in these countries. Organisations need to prepare for different scenarios and engage strategically with their local stakeholders to ensure that their business remains resilient irrespective of the outcome of succession.

Regulatory competition in the Gulf

As the global economy gains more strength in 2018 and the oil price continues to recover slowly, the Gulf economies are poised to return to economic growth. But sustainable growth will ultimately depend on economic diversification and regulatory reform. In a bid to attract companies and people who can provide the knowledge transfer, capacity building and technology required for such a transformation, governments in the region will embark on a regional competition to liberalise their business environment and labour markets. This will create regulatory unpredictability in the short term, with changes to the business environment coming in fast succession and sometimes with little notice. Ultimately this will improve the business fundamentals in the longer term, but businesses will need to adapt to the pace of change and brace for impact.

The rise of Russia and China as regional players

The US’ role in the Middle East has gradually changed from being the undisputed arbiter to an actor that is occasionally absent, sometimes partial and, most importantly, unreliable in the eyes of its partners. Russia and, to a lesser extent, China, are positioning themselves as the alternative power-brokers in the Middle East. Their initiatives and resolve to participate in regional affairs in the years to come will redefine the geopolitical and commercial playing field. Businesses in the region need to prepare to face stronger competition from these players, which calls for a rethink of their long-term strategy and market positioning.

Facing up to reality

The (perhaps perverse) upside of all this uncertainty is that companies in the region are seriously starting to think about managing geopolitical risk. And that’s because this novel type of uncertainty is global – whereas in the past a company could decide to terminate geopolitical risk by simply refusing to venture out of its home geography, these days geopolitical risk is hitting closer to home in the form of terrorism, trade wars, cyber-attacks, politically-motivated direct action, and so the list goes on. Companies are therefore left with finding ways to either manage geopolitical risk or simply tolerate it. The balance may be slowly tilting in favour of the former.

Tolerating geopolitical risk is not a winning strategy in the current competitive and geopolitical environment – it’s like allowing your business to walk blindfolded on a tight rope 100ft above ground. A gust of wind, a shake in the rope, or someone crying out your name may send you down in a flash. Without a plan and a thought-through set of expectations your business can easily over-react at false alarms or fail to respond in time to a developing situation.

So if tolerating or terminating geopolitical risk is no longer an option, companies need to think about transfer or mitigation. This is where political risk insurance and risk management comes in. From our conversations with clients, both multinational companies operating in the region and local companies looking to diversify their portfolios are increasingly evaluating such options. We see a trend among businesses seeking to increase their resilience in the face of potential disruptions – both by considering more specialist risk insurance for their projects and by testing and strengthening their risk management capabilities. This includes running robust due diligence on potential business opportunities to ensure that they keep away from risky, politically-sensitive projects and partners; running scenario planning as part of their strategy formulation; and testing business continuity and crisis management plans to ensure that they can respond adequately to whatever may come next.

Geopolitical uncertainty is here to stay, so successful long-term investment in the region will belong to those companies who look for options to mitigate these risks.

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